Morningstar | Textron Beats 4Q Consensus and Profit Growth Anticipated for 2019, but Shares Fairly Valued
No-moat Textron reported fourth-quarter 2018 earnings that beat consensus expectations, which sent shares up. Management's 2019 outlook featured year-over-year profit growth (after excluding the gains on a divestment) but the company guided to basically flat cash flows versus 2018 due to lower progress payments tied to Bell military programs. We're maintaining our $55 fair value estimate; the name looks fairly valued at a price/fair value ratio of around 0.95.Textron's revenue in the fourth quarter of 2018 fell 6.6% (down 3.5% organically) with all segments except for aviation (business jets plus turboprops) registering year-over-year decreases in the quarter. Nonetheless, the company managed to post higher margins in each business save the industrial segment. This translated into 160 basis points of operating margin expansion at the segment level, which came in at 10.6%. A similar story played out for full-year 2018, which saw revenue drop 1.6% coupled with 90 basis points of margin expansion at the segment level.
Based on management guidance for its businesses, we estimate a 0.4% increase in manufacturing 2019 revenue, noting that the tools and test divestment creates about a 4.5-percentage-point headwind on sales growth. Strong growth in the aviation business should offset declines in industrial (affected by tools and test) and flat revenue in the systems business. Management believes revenue in the systems business will bottom in 2019; we forecast 3% growth in 2020. Bell is expected to increase revenue roughly 3% in 2019. We think the V-22 ramp-down in 2020 and beyond may prove difficult to offset, particularly if Bell's commercial deliveries, which increased by 60 helicopters to 192 in 2018, begin to plateau. Turning to the bottom line, management is guiding to EPS of $3.65 at the midpoint and manufacturing cash flow before pensions of around $750 million.
Despite business segment guidance translating into segment profit growth of around $100 million, management guided to flat operating cash flow compared with 2018. Although the company maintained there isn't a working capital issue depressing cash flows, it did confirm that progress payments on the V-22 will be lower due to the new multiyear procurement contract coming into force in 2019. This sounds like a potential working capital headwind to us.
Textron is a multi-industry company. The company's segments include: Textron Aviation, which manufactures, sells and services Beechcraft and Cessna aircraft, and services the Hawker brand of business jets; Bell, which supplies military and commercial helicopters, tiltrotor aircraft, and related spare parts and services; Textron Systems, which includes unmanned systems, marine and land systems, and simulation, training and other; Industrial, which designs and manufactures a variety of products within fuel systems and functional components and specialized vehicles product lines; and Finance, which provides financing to purchasers of new and pre-owned Textron Aviation aircraft and Bell helicopters.
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